Time for the hard yards on inflation

Russian inflation has rebounded sharply from its mid year low point with the drought pushing food prices, against the backdrop of the CPI turning around from its economic recession propelled drop over 18 months.

Inflation rose to beyond 8% at the end of 2010 having been about 5.5% in June at the tail end of a drop from 15% in late 2008.At that point concerns mounted, on the back of the summer drought and its capacity to generate food price inflation, and push inflation higher more broadly.

Ivan Chakarov, Chief Economist for Russia and CIS countries at Bank of America Merrill Lynch, believes the rebound in inflation during 2H 2010 has largely reflected the impact of the drought.

“I think, that inflation was clearly, almost 100%, driven by the food price shock that was caused by this summer drought. If you look at the inflation outside the food sector, this stayed pretty much constant during the year, in other words, we didn’t have a significant spill over effect from the food prices to the non food prices.”

Julia Tseplyaeva, Chief economist for Russia and CIS countries at BNP Paribas, adds that the low base effect and recovering domestic demand has also played a part in pushing inflation back to beyond 8%.

“As I see it, there are 3 major factors for high inflation numbers in 2010 – a low base effect, the drought in summer this year and the recovery of domestic demand. And I think, that mostly non monetary factors drove inflation to above 8% in 2010.”

Chakarov notes that so far the food price inflation which has been pronounced, hasn’t generally translated into other areas.

“Though there really was a double digit increase of the monetary base, in the recent months the growth rate started to fall. And for me the most important thing is to look at what’s happening outside the food market, where the prices aren’t really growing. That’s why I wouldn’t worry about inflation until we see growth in those non food items.”

From there he adds that although he expects the food price inflation to continue being a factor well into 2011, he believes it is reasonably easy for the government to prevent it worsening.

“Going forward into 2011, I think, we’ll continue to see the impact of the food shock on the overall inflation. I think, that is going to be the case until May or June next year and in 2H of 2011 the headline CPI index will start to moderate and ease. And at the same time, I think, there’s a lot of pressure right now on the Central Bank to do something about it, in particular because 2011 is a pre election year and for the Russian authorities it’llbe very important to keep any possible social unrest in check. And that’s why, I think, keeping the inflation in control will be very important.

I think, it’ll be relatively easy for the authorities to do something about it. They can unload the significant grain reserves that they have accumulated during previous years, and according to Putin’s announcement, Russian Government is going to release about 1.3 million from the grain reserves to fight the food inflation and, I think, that’ll be another dampening factor. So, I don’t really worry about inflation. The economy now isn’t overheating and the inflation is caused by a food price shock, with the Government having enough tools to fight that.”

Anton Stroutchenevski, senior economist at Troika Dialog, doesn’t think there is much the central bank of Russia can do about the rate of inflation.

“Currently the CBR doesn’t have the opportunity to significantly influence the inflation rate. It could if Russian financial market was volatile or manipulation with the interest rate had a real impact on the exchange rate. Neither of these two things is relevant today, as the financial market is stable and interest rate movements during 2010 proved to be of little influence. The main reason for high inflation is a growing budget deficit that the CBR tries to fill by printing new money.”

For 2011 Chakarov believes inflation will come in at about 8% for the year, but he is expecting pressure to ease during the second half.

“In 2011 it’ll rise to a little bit above 8%. But it’s important to remember about the shape of inflation because the inflation, I think, will be accelerating during 1H of 2011 in line with food prices, but then, I think, the trajectory of the inflation will be falling. So, next year I expect an inverted V –shape trajectory for inflation, with the prices growing until May-June and then again falling From June to December.”

Stroutchenevski, from Troika Dialog believes inflation will ease over the course of the year provided government outlays don’t aggravate the situation, and oil prices don’t rise sharply.

“I expect inflation to be a bit down in 2011 to 7% from 8.5% this year. This is provided the oil prices remain at the current level and the Government doesn’t interfere.”

Julia Tseplyaeva believes that the increase in money supply over the course of 2010 is likely to rise.

“I expect the inflation to go further up to about 9.2% in 2011, as the money supply is constantly going up, with the pace of growth exceeding 30% year on year, and the budget expenses are also planned to increase to provide for higher salaries and pensions.”